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Citibank $500M Ruling Is a Chance to Clarify Mistaken Payments Law

March 15, 2021, 8:00 AM

The recent In re Citibank ruling has drawn attention, primarily due to the amount of money involved and the severe implications for Citibank.

The court held that Citibank, which intended to transfer only $7.8 million in interest payments on behalf of Revlon, cannot recoup more than $500 million that it mistakenly included, because those funds were part of a debt actually owed to the recipients—even though that debt was not yet due.

Citibank will undoubtedly appeal; indeed, expressly contemplating as much, the lower court required the funds to remain frozen. It also noted that it might have ruled differently if it were “writing on a clean slate” rather than “bound” by prior case law. The resolution of that forthcoming appeal will have far-reaching implications. Citibank has indicated it will ask for an extended freeze.

Under the lower court’s ruling, a party will have no recourse for a mistaken overpayment if the amount paid is actually owed—even if it is not due until years later. The widely-reported circumstances of In re Citibank will attract the attention of other large banks, but it is easy to conceive of effects beyond those institutions.

Any business owner who has a substantial loan obligation and mistakenly adds one or more zeros to a periodic payment would be unable to recover potentially substantial amounts that it had no intention of paying at that time. The business owner’s sole recourse may be increasing prices or decreasing its own spending, thereby potentially affecting its employees and vendors while the lender reaps an unexpected windfall.

Indeed, we may soon see such a trickle-down effect if Citibank elects to increase fees to account for its heightened risks in the wake of the ruling.

Consequences of Mistakes Should Not Be Draconian

If the ruling is upheld, other financial institutions will likely take proactive measures to account for the follow-on risks, even though they may never be in Citibank’s shoes. But while ideally companies would maintain sufficient controls to prevent such errors, the fact that they can happen at an institution such as Citibank makes it abundantly clear that it is likely impossible to fully prevent them. While deterrence is important, the consequences should not be draconian and the legal standard should not be inflexible.

Why, then, did the court rule the way it did? As noted above, the court reasoned that it was bound by precedent: namely, the U.S. Second Circuit’s ruling in Banque Worms v. Bank Am. Int’l., under which a creditor can defeat a claim for restitution of mistakenly paid funds where (a) the money it received discharged a debt it was actually owed; and (b) the creditor was unaware of the transferor’s error at the time of transfer.

Importantly, the funds at issue in Banque Worms were actually due on the date of the “mistaken” payment, such that the creditor fully expected the precise amount it received. The Second Circuit nevertheless understood that its holding would “undoubtedly have a significant impact on banks and financial institutions…and have serious repercussions for [the] banking community.”

Application of a Different, 30-Year-Old Case Should Not Be Expanded

Banque Worms has remained law for more than 30 years because it is a sensible standard for the set of facts at issue there. But it should not be expanded to cover the meaningfully different set of facts at issue in In re Citibank.

The key takeaway from Banque Worms—that a party who receives funds as expected, without notice that they were sent in error, should be able to rely upon the finality of the transaction—is not present in In re Citibank, where none of the recipients had been expecting the mistakenly wired funds (and some even affirmatively acknowledged the error by returning their share).

The difference may be nuanced, but it is significant and should lead to a different result. Where the funds are not due when mistakenly paid and there is no indication of an intent to prepay, there should be flexibility to allow for them to be recouped.

To be sure, such flexibility should not be at the creditor’s expense if the funds have already been applied or used (or the creditor has otherwise innocently acted in reliance on the payment) by the time it is made aware of the error. But in the absence of such facts, there should be a viable path to return the parties to their respective positions as if the error did not happen.

The appellate courts should, in sum, take this opportunity to provide much-needed clarification in light of the meaningful factual differences between Banque Worms and In re Citibank.

This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.

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Author Information

Timothy J. Holland is an associate in the litigation department at Katsky Korins LLP in New York.

Adrienne B. Koch is a partner in the litigation department at Katsky Korins LLP in New York.